The future of the ‘triple lock’ that guarantees annual state pension increases of at least 2.5 per cent is rumoured to have caused a rift at the top of the Government.
The pledge is highly valued by elderly voters and Prime Minister Boris Johnson is reportedly keen to keep his election promise to maintain it for fear of a backlash.
But as rises are decided by whatever is the highest of price inflation, average earnings growth or 2.5 per cent, a big correction in pay levels after the Covid-19 crisis could lead to a shock spike in the state pension.
Triple lock: Guarantee on state pension increases could be weakened as wages take off again next year
The prospect of making an outsize handout to pensioners as the rest of the nation remains hard up, and the need to scrape together some cash to pay for fighting the pandemic, are apparently weighing on Chancellor Rishi Sunak.
Last April, older people received a near-4 per cent rise in the full new state pension to £175.20 per week, or to £134.25 if they are on the old basic rate.
Critics have long argued the triple lock is too generous, and an unsustainable burden on today’s workers who fund it via National Insurance contributions.
But any move to weaken the guarantee is likely to be resisted by the elderly, who paid contributions for their state pension throughout their own working lives.
We run through some of the Government’s options, including suggestions for temporary reform from pension experts below.
Keep the triple lock
The Tories and Labour both pledged support for the triple lock in the December 2019 election.
Johnson breaking his promise would be a political betrayal that might not soon be forgotten and certainly not by the opposition which is likely to hold it over the Government.
But Johnson and Sunak might gamble that voters will forgive a ‘pause’ or temporary reform if the pandemic is over and the triple lock reinstated by the next election.
The problem they face is that pay volatility caused by cuts under the furlough scheme, its pending withdrawal, and an economic recovery if a vaccine is found, could completely skew the wage growth element of the triple lock over the next couple of years.
Annual growth in total pay, including bonuses, was minus 1.2 per cent in the three months to June, or a fall of 2 per cent after inflation is factored in, according to official figures.
The Government’s independent number crunchers at the Office for Budget Responsibility forecast a 7 per cent decline in average earnings this year, followed by an 18 per cent increase in 2021.
Trying to defend a state pension increase of around a fifth for retirees, while the nation’s workforce struggles to make ends meet, could prove a bigger political nightmare than changing the triple lock.
Move to a double lock
Dropping the 2.5 per cent part of the guarantee was floated by a think tank in April, which at the time forecast savings of £20billion over five years as growth in wages and prices were then expected to be lower.
Its suggestion that the older generation should share the financial ‘sacrifice’ being made for them during the pandemic went down badly with elderly people.
A double lock would still have meant a 3.9 per cent rise in the state pension last April, as it was set to match the rise in average earnings recorded in July 2019.
And the idea is surely off the table for now given anticipated volatility in wage growth in the near future.
Suspend the earnings element for a year
Due to Covid-19 and the expected disruption to earnings from the furlough scheme, it would be sensible to suspend the earnings element of the triple lock in 2021/22, suggests pensions consultant Hymans Robertson.
It calculates the guarantee has only increased the state pension by 2.5 per cent of national average earnings since it was introduced in 2010, from around 20 per cent of average earnings in 2010 to around 22.5 per cent in 2020.
Hymans therefore argues that the Government should maintain its commitment to the triple lock in the longer run, or risk more pensioner poverty.
The Prime Minister’s reluctance to break his election promise might mean a one-off fix like this appeals to him, especially if massive zigzags in pay over the next few years produce an indefensibly huge increase in the state pension.
Introduce a two-year average for wages
Another temporary option is to look at the triple lock over two years rather than one, according to a proposal from pension firm Aegon.
It suggests the Government apply the triple lock as normal next April, but base the following year’s increase on two years’ worth of figures, to smooth out any artificial pay distortions caused by the furlough scheme.
That would still give pensioners a rise based on the highest of 2.5 per cent, wage growth or the inflation rate, but just calculated over a longer period.
At a push, and with a bit of creative spin, this could just about allow the Prime Minister to claim he had maintained the triple lock.
If the OBR’s prediction of a huge bounceback in pay next year comes to pass, pensioners would still get a bumper increase in the state pension, which would cause some grumbles but maybe avoid outraging working voters.
STEVE WEBB ANSWERS YOUR PENSION QUESTIONS
The Government would probably have to take a gamble and announce such a plan soon, if it goes for such an option.
Aegon points out that pensioners are much more likely to accept a two-year averaging as fair if they’re told about it now, not in a year’s time.
What do pension experts say?
‘The triple lock was put in place in 2010 because of the relatively low level of pensioner income,’ says Chris Noon, partner at Hymans Robertson.
‘It was essentially a mechanism for increasing state pension relative to earnings and the cost of living over the medium-term.
‘Over the last 10 years the triple lock has helped increase the state pension from around 20 per cent of national average earnings in 2010 to around 22.5 per cent of national average earnings in 2020.
‘It’s difficult to see how this 2.5 per cent change has substantially shifted the position of pensioner poverty when the threshold for this is 60 percent of median household income.
‘Whilst it makes sense for the Government to consider how it responds to the short-term implications of furloughing for state pension increases in 2021 and 2022, it would be madness for them to throw out the triple lock without a more detailed assessment of current pensioner poverty in the UK.
‘The UK pensioner poverty position must be assessed properly by the Government before making knee-jerk policy decisions to short-term cost savings opportunities.’
‘We would urge the Treasury to see the furloughing situation simply as an anomaly rather than using it as an excuse to renege on a manifesto promise to maintain the triple lock.’
Steven Cameron, pensions director at Aegon, says: ‘Since its introduction in 2010, the state pension triple lock has met its aim of making sure state pensioner incomes have at least kept pace with both inflation increases and earnings growth with a guaranteed underpin of 2.5 per cent each year.
‘This has been an important means of offering fairness between generations and dignity in retirement to the UK’s elderly, particularly to those on the lowest incomes.
‘But the formula was set in a very different pre Covid-19 age when price and earnings growth tended to be relatively stable year on year.
‘Blindly following that formula now as we move through and out of the coronavirus crisis with huge distortions to average earnings expected could create bizarre results which were never intended and which would fail any test of intergenerational fairness.
‘If as a result of the furlough scheme we see a sharp dip in average earnings this year followed by a quick and full recovery the next, the triple lock would still grant pensioners a 2.5 per cent minimum increase next year and potentially put them on track for a much higher increase in 2022, while many of those of working age might have simply regained their pre Covid-19 earnings.’